I’m Paul Bernstein of the Bernstein Law Group. And today, I’m going to talk about what happens if you receive an inheritance. Will you be taxed? Many people ask me that question. If I get an inheritance, is there an inheritance tax I have to pay? Well, as in many things we do, the answer to that is, it depends.

No state inheritance tax in Massachusetts

If you’re a Massachusetts resident and you receive an inheritance, there’s no state inheritance tax. There’s also no federal inheritance tax. Let me explain what an inheritance tax is. It’s just what it sounds like. It’s a tax on the beneficiary who is receiving the inheritance.

Death tax or estate tax

The mere fact you’ve received an inheritance does not mean there’s a tax. You don’t have to worry about that as a Massachusetts resident because there’s no inheritance tax. However, there’s another type of tax known as a death tax, which is more formally known as an estate tax. That isn’t a tax to the beneficiary. It’s actually a tax on the estate when someone dies if the value of that estate exceeds a certain threshold.

Federal estate tax

On the federal side, there’s a federal estate tax. That tax threshold is $11.7 million. So as long as the estate of the person that passed away is under that 11.7 million, which is current for 2021, there’s no federal estate tax.

If the person that passed away was a Massachusetts resident, the threshold is significantly lower. It’s $1 million. If the estate exceeds a million dollars, the estate may need to pay an estate tax, but that comes off the top. The person receiving the inheritance won’t have to report that inheritance as income.

However, that doesn’t necessarily mean there won’t be a tax issue down the road. So what could that tax issue be for the beneficiary that receives an inheritance? Well, it depends on what type of inheritance they’re receiving.

Other tax issues

If you’re a beneficiary of a retirement plan, an IRA or a 401k, as you withdraw the funds out of that retirement plan, it will be treated as income to you upon withdrawal. And you’ll have to report that on your 1040 income tax return the year following the year you withdrew it.

So although it’s an inheritance, it’s not necessarily an inheritance tax. It’s because you are inheriting a retirement plan that hasn’t been taxed yet. And it’s only taxed upon withdrawal.

Growth in the value of the inherited asset

The other time when you receive an inheritance where there could be a tax in the future is if there’s been a growth in the value of the inherited asset, from the date of death to the date you sell it. There will be a capital gains tax just on that growth. But it’s not a tax by the mere fact that you inherited it. It’s just on the increased value.

I hope you found this information regarding inheritances and whether you have to pay a tax on it helpful. If you have any other questions regarding estate planning or asset protection planning, feel free to reach out and we can have a conversation.

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